Low Interest Rates: The Backlash Begins

For the past three years in particular - and the past 20 years in general - the Federal Reserve has imposed low interest rates. And when interest rates near zero didn't work, the Fed started buying up Treasury bonds to keep rates even lower.

For a while, this helped the economy. But now the indignities are starting to pile up.

Banks, for instance, found low interest rates to be a bonanza at first. They could borrow for nearly no money. But after a while, that effect wears off. Banks find it hard to make money when federal interest rates are near zero, because they make money on the difference between the federal funds rate and the rate they decide to charge. Lending is already what Wall Street calls a "low-margin" business; banks collect much less on loans than they would on, say, a big merger or acquisition where they get a percentage of a multi-billion-dollar deal.

Another group unhappy with low interest rates: savers. Anyone who has money in a savings account - or any account that is supposed to pay interest - is screaming for a little relief. The days of measly 4% interest seem rich indeed.

And here's another group that is actually staging a show of conscientious objection to low interest rates: buyers of long-term U.S. Treasury bonds.

The Treasury issues bonds to raise money for the government, so Treasury bond prices are usually a decent gauge of how people feel about the government - in increments of 3 years, 10 years and 30 years. Low interest rates and a lot of faith in the government have made Treasury bonds yield, some days, just barely 2%.

And now bond investors are starting to rebel. Today's auction of 30-year U.S. Treasury bonds was one big unsuccessful fizzle.

Guy LeBas, a fixed-income analyst for Janney Montgomery Scott, told me that he has a theory: Bond investors are just sick of low yields. Especially when they're being asked to make a long-term bet on the United States. Agreeing to buy a bond for 10 years, and making only a 2% interest rate? Maybe acceptable. A bond that will drag on for 30 years with that same low interest rate? Unacceptable.

Bond traders, of course, always get knots in their stomachs before the auction of 30-year government bonds. The auctions tend to be volatile because there aren't as many people looking to participate. That's why the 30-year is far more fraught than either the 3-year or 10-year bond auctions, both of which were huge successes in recent weeks.

Peter Boockvar, a strategist for Miller Tabak, explains in a note today that the few investors who asked to buy 30-year bonds demanded a much higher interest rate - at least 1/10 of a percentage point higher.

Wall Street, of course, got caught holding the bag for all those unsold bonds, Boockvar wrote today: Also reflecting very weak demand, the Street got stuck with the most since Nov '08 as direct and indirect demand faltered.

Boockvar concluded:

"Considering the actions of global central banks to what currently ails us, that of a debt noose, lending money for 30 yrs with ZERO inflation protection has been given the thumbs down today."

There's not much of a chance that things will change. The Federal Reserve explicitly said this week that interest rates will stay near zero until mid-2013. Investors, bankers and savers may start to take that personally.

About the author

Heidi N. Moore is The Guardian's U.S. finance and economics editor. She was formerly the New York bureau chief and Wall Street correspondent for Marketplace.